Robert A. Weigand

Investment Management and Financial Innovations

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“US equities' heartbreaking performance is nothing new”AUTHORS Robert A. WeigandARTICLE INFORobert A. Weigand (2009). US equities' heartbreaking performance is nothingnew. Investment Management and Financial Innovations, 6(4-1)RELEASED ON Wednesday, 10 February 2010JOURNAL "Investment Management and Financial Innovations"FOUNDER LLC “Consulting Publishing Company “Business Perspectives”NUMBER OF REFERENCES0NUMBER OF FIGURES0NUMBER OF TABLES0© The author(s) 2021. This publication is an open access article.businessperspectives.orgInvestment Management and Financial Innovations, Volume 6, Issue 4, 2009 233 Robert A. Weigand (USA) US equities’ heartbreaking performance is nothing new Abstract US equities have delivered devastatingly poor long-term returns with surprising regularity: in the 1910s, the 1930s, the 1970s, and the 2000s. Following the bear markets of the 1930s and the 1970s, stock valuations languished for a consid-erable period before providing investors with long-term returns that outperformed inflation. Investors should consider that much of the increase in stock values from March-August 2009 may be driven more by a 1990s-style belief in the infallibility of equities as an investment class than by tangible improvements in global economic conditions. The risk remains that much of the gains in stocks in 2009 could be another “false start” that characterized recoveries from for-mer “super-bear” markets. Keywords: equity returns, bear markets. JEL Classification: G10, G11, G12.  Introduction One of the most puzzling aspects of the 2008-09 bear market is investors’ sense of denial regarding the profound decline in equity values. I have re-peatedly encountered a deep-seated unwillingness to believe that equities can lose 50% of their value in a matter of months. In my conversations with investment advisors, individual investors and endowment and pension officers, the question “How could this have happened?” arises rou-tinely. This paper demonstrates that a straightforward an-swer to this question exists: stock valuations exhibit prolonged declines every few decades with almost predictable regularity. The long-term performance of equities thus far in the 21st century is not materi-ally different than it was during select periods from the previous century – what is different is investors’ willingness to believe that their portfolios can be devastated by these “super-bear” markets from time to time. 1. The culture of equities Figure 1 depicts the annualized real 10-year return (dividends reinvested) that a buy-and-hold investor in US equities would have earned from each start-ing date on the x-axis (data courtesy of Shiller, 2009). For example, someone who bought at the peak in 1929 and reinvested all dividends would have underperformed inflation by about -3% per year for the next decade. Conversely, an investor who bought at the market bottom in 1982 would have outperformed inflation by about +13% per year for the next 10 years. Much of investors' cur-rent angst is probably due to the fact that buying and holding US equities from the 1999-2000 stock market peak yielded inflation-adjusted returns of approximately-6% per year – thus the increasing popularity of the phrase “the lost decade”. Fig. 1. Annualized 10-year real returns from 1871-1999©                                                      © Robert A. Weigand, 2009. The author would like to thank Robert Irons for helpful comments and suggestions. Investment Management and Financial Innovations, Volume 6, Issue 4, 2009  234The chart makes it clear that investors in past dec-ades have also experienced prolonged negative real returns, however. It is my impression that some of investors’ disbelief regarding the carnage visited upon their portfolios  and some of what has driven the increase in US equity valuations from March-August 2009  is that stocks’ disap-pointing long-term performance is impossible to reconcile with the “culture of equities” propa-ganda that was perpetrated on the investing public throughout the 1990s and early 2000s. Jeremy Siegel’s best selling book Stocks for the Long Run promoted the viewpoint that equities were less risky than bonds over long holding pe-riods (20 years or more). With the benefit of hind-sight we now realize that the research Siegel con-ducted for the book was completed when stocks were consistently beating inflation by more than 10% per year. It is fair to assume that equities’ amazing performance over this period exerted a considerable influence on Siegel’s views  and his unwaveringly bullish stance did not hurt his money management aspirations, either. Publica-tion of Glassman and Hasset’s Dow 36,000 fur-ther reinforced Siegel’s thesis. Glassman and Hasset exhorted readers to believe that equity premiums had been too large historically and that stock values  should be much higher. (As of the market  bottom of March 2009 these authors were only off by 30,000 Dow points, give or take a few). Even US Federal Reserve Chairman Ben Bernanke (2004) perceived that the world was entering a period he called “The Great Moderation”, a phrase he coined just before the wheels began to come off the global economy and financial markets. If experts such as these can get it so wrong  Siegel is an esteemed Wharton professor, Glassman is a senior economist with J.P. Morgan, and Bernanke is the Chairman of the US Federal Reserve Bank  individuals should not blame themselves for also getting it wrong. One key point of this essay, however, is that in the future, investors would be well served by remembering that during periods of euphoric equity valuations that presage unsustainable market tops, popular culture’s alleged “experts” tend to provide deeply misguided advice, and do so with surprising consistency. Of course, this perspective may also apply to the advice currently being dispensed regarding the apparent robustness of the recovery in US stocks from March-August 2009. 2. Lessons from the past and implications for current investors Figure 2 re-presents the long-term returns from Fig-ure 1 with 36 month smoothing to emphasize the longer-term trends. A few noteworthy items stand out. Fig. 2. Annualized 10-year real returns from 1871-1999 with 36-month smoothing First, stocks’ long-term real returns can be below average  and below zero  for extended periods  especially when recovering from the most severe bear markets. Buy-and-hold equity positions estab-lished during the 1910s, 1930s, 1970s, and 2000s earned low and sometimes negative real returns that persisted for a decade or longer. Investors should therefore not be highly surprised by the dreadfully low returns of 2008-09, as markets have repeatedly delivered similar returns throughout the history of investing. What I find more surprising is the fact that, collectively, investors sometimes become es-pecially eager to ignore history and embrace the overly optimistic messages of people like Siegel, Glassman and Bernanke. Investors who instead fol-lowed the more prosaic John Bogle (2007) equity Investment Management and Financial Innovations, Volume 6, Issue 4, 2009 235 allocation formula (100 minus one’s age) may have still lost substantial wealth in the recent bear market, but not nearly as much as a culture-of-equities asset allocator likely to be 100% invested in equities at all times. Bogle’s advice may be less exciting, but also far less hazardous to investors’ wealth. Second, examination of Figure 2 suggests that mar-ket-timers need to be highly skilled. If market timers cannot identify a market bottom within a few months, they will miss out on the best of the out-sized real returns. Timers may still perform a few percentage points above average, and possibly avoid the bottoms of bear markets, but to do this repeatedly requires that one lives to be at least 150 years old. Market timers and frequent traders are also condemned to spend far more time monitoring their investments than investors who follow Bogle’s (2007) simpler recommendations for building wealth.  Third, after “super-bear” market tsunamis, returns can languish for long periods. As a matter of fact, the only V-shaped long-term stock market recovery following a super-bear began in the 1910s. The bear markets of the Great Depression and the 1970s were followed by long, drawn-out periods of lackluster returns. The implication is that the current global economy  would  require a “perfect storm” type of recovery in corporate and residential real estate, credit markets, consumer spending and corporate earnings for the bull market of 2009 to establish itself on an economically solid foundation in the short term. While it is not impossible for this to happen, the history of stocks’ recovery following past super-bear market declines suggests that these types of prompt rebounds have occurred only rarely in the past. Conclusions Throughout the history of investing, US equities have delivered devastatingly poor long-term returns with surprising regularity: in the 1910s, the 1930s, the 1970s, and the 2000s. Following the bear markets of the 1930s and the 1970s, stock valuations languished for a considerable period before providing investors with long-term returns that outperformed inflation. Investors should consider that much of the increase in stock values from March-August 2009 may be driven more by a 1990s-style belief in the infallibility of equi-ties as an investment class than by tangible improve-ments in global economic conditions. The risk remains that much of the gains in stocks in 2009 could be an-other “false start” that characterized recoveries from former “super-bear” markets. References 1. Bernanke, B. The Great Moderation. (2004). http://www.federalreserve.gov/BOARDDOCS/SPEECHES/2004/ 20040220/default.htm 2. Bogle, J. The Little Book of Common Sense Investing: The Only Way to Guarantee Your Fair Share of Stock Mar-ket Returns. New Jersey: Wiley (2007). 3. Glassman, J.K. and K.A. Hassett. Dow 36,000.New York: Random House (1999). 4. Shiller, R.J. http://www.econ.yale.edu/~shiller/data.htm, (2009). 5. Siegel, J. Stocks for the Long Run, 4thed. New York: McGraw-Hill, (2008). 

US equities' heartbreaking performance is nothing new

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US equities' heartbreaking performance is nothing new

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